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UNSW Law Society Court of Conscience |
Sonya Willis*
Taxation is essential for society to run effectively but the enormous compliance burden of Australia’s current taxation system contributes to unfairness for taxpayers. Capital Gains Tax (‘CGT’) is a key example of how tax compliance measures exacerbated societal inequity. This article suggests it may be time for the Government, through the Australian Taxation Office (‘ATO’), with the assistance of technology, to reduce the self-assessment compliance burden on taxpayers so that the complexity of taxation law does not exacerbate inequity.
Most people do not enjoy completing their annual tax return and the compliance responsibility of Australia’s current self-assessment system adds to the burdensome nature of paying tax for most Australian taxpayers.[1] Australian taxation law is voluminous and in a constant state of flux.
The complexity of taxation law and the relative unaffordability of taxation advice, means that, often, only the wealthy can afford legal tax planning advice to avail themselves of tax structures that reduce tax liability and yet over 70% of Australians feel compelled to hire a tax agent to assist with tax return compliance,[2] it is significantly higher for those with rental income.[3] The complicated nature of Capital Gains Tax (‘CGT’) provides a stark example of the links between compliance costs, taxation inequity and corresponding societal inequity.[4] The 50% CGT discount was introduced to reduce tax compliance complexity,[5] which should have reduced tax inequity by making compliance more affordable, but, instead has increased societal inequity across the housing sector.[6]
This article concludes that the inequity of the current legislation makes it imperative for the Federal Government to consider ways to reduce the compliance burden on taxpayers, including for capital gains, enabling inequitable laws, introduced for simplification purposes, to be reversed. Fortunately, dramatic improvements in the capacity of technology to record, calculate and report taxation liabilities mean it should be possible for the Australian Taxation Office (‘ATO’), with the assistance of technology, banks and share repositories, to reduce the self-assessment compliance burden on taxpayers. Reducing the compliance burden could reduce the numerous adverse impacts of legislative complexity making tax fairer and simpler for individual taxpayers.
The self-assessment system was introduced in Australia in the tax year ended 30 June 1987 as a means to collect revenue with ‘minimum administration and compliance cost’ for the ATO.[7] Unfortunately, self-assessment shifts the burden for complying with taxation laws to taxpayers and this burden continues to expand commensurate with the growing size and complexity of tax legislation. The Taxation Administration Act 1953 (Cth), which sets out much of the self-assessment obligations, is 1,385 pages long, provided across four volumes in the Federal Register of Legislation.[8] Most Federal taxation law applicable to individual taxpayers is set out in the Income Tax Assessment Act 1997 (Cth) and its predecessor, the Income Tax Assessment Act 1936 (Cth) (which stubbornly refuses to die), comprising 5617 pages across 12 volumes and 2018 pages across 7 volumes in the Federal Register of Legislation respectively.[9] Hence, these three core tax Acts gift individual taxpayers over 9000 pages of legislative bedtime reading supplemented by numerous additional Federal tax related acts.[10] There are also a plethora of regulations and state based taxes, such as transfer duties and land tax which can affect individual taxpayers[11] and, for taxpayers running businesses, the legislative load increases further.[12]
Gary Banks, in comparing the Income Tax Assessment Acts from 1936 to 2003 noted that, if the growth rate continued for the remainder of the century, by 2100 a paper version of the Act would have 830 billion pages and require 3 million years to read.[13] There have been significant efforts to simplify taxation legislation and its consequent compliance obligations.[14] Unfortunately, these attempts have not been entirely successful and legislative tax changes in recent decades may have increased inequity and complexity.[15] Legislative amendment, as a necessary response to changes in society, the economy and taxpayer behaviour, continues unabated. This is, in part, due to the cat and mouse game played by tax advisors and the ATO through wealthy taxpayers employing tax advisors, to devise and implement new tax structures designed reduce tax payable.[16]
As life becomes more complicated and tax advisors more imaginative, tax simplification seems unlikely. For example, on 1 June 2024, the Federal Government amended several tax acts through the Treasury Laws Amendment (Tax Accountability and Fairness) Act (2024) (Cth) including provisions such as ‘Schedule 1—PwC response—Promoter penalty law reform’ in response to improper use of confidential information by accounting firm PwC to devise loopholes to tax legislation designed to reduce corporate tax avoidance.[17]
One key area where tax self-assessment and compliance costs have led to unfairness is CGT. The combination of negative gearing, and the 50% CGT discount (introduced by the Ralph Report in 2000 to reduce compliance complexity) rendered even loss-making housing investments potentially profitable due to their favourable tax treatment.[18] The growing use of residential property as a tax effective investment vehicle has contributed to Australia’s inflated property prices and consequent housing crisis. Legislation designed to reduce tax compliance complexity may have become a significant contributing factor in Australia’s housing crisis.[19]
CGT was introduced on 19 September 1985 to raise revenue by taxing capital gains on property, shares and other assets.[20] CGT made landlords taxable on the increased capital value of a rental property upon sale. Until 2000, the acquisition costs of a rental property were indexed for inflation when calculating the sale price and the tax rate applied could be averaged over the period of ownership.[21] Indexation and averaging made CGT fairer because it meant the profits made on sale were not unfairly inflated due to the decreasing value of money over time.[22]
Although indexation and averaging of capital gains made CGT fairer, it also contributed to tax compliance complexity.[23] Calculating CGT using indexation could be particularly complex for assets such as share portfolios, where taxpayers were acquiring and disposing of assets, often automatically, through dividend reinvestment plans, corporate restructures and subsidiary sales.[24] Following the 1999 Ralph report, averaging and indexation were replaced for individual taxpayers by a simple 50% discount on capital gains which approximated the average amount by which indexation and averaging had reduced CGT paid by taxpayers at the time.[25] As a result of the introduction of the 50% CGT discount, September 1999 was the final quarter of indexation available for capital gains and indexation cannot be applied simultaneously with the 50% discount.[26] The Government optimistically predicted the change would not decrease CGT revenue.[27]
Australia also allows negative gearing on rental properties. Negative gearing is the process whereby the expenses of owning a rental property such as interest payments, rates, repairs and real estate agent fees can be used to offset not only rental income but all forms of income.[28] Accordingly, net losses from rental properties can be used each year by those owning investment properties to offset other earnings (eg, salary).[29] This makes investment properties particularly attractive for high earners. Property investment reduces annual tax payable while the property holder increases the value of their capital holdings (as property values appreciate) and net wealth. The current combination of the CGT discount and negative gearing, effectively allows landlords to claim tax deductions for 100% of their rental losses each year while only paying tax on 50% of their capital gains upon sale of their rental properties.[30]
Replacing indexation and averaging with a 50% CGT discount may not have created problems if taxpayer behaviour had not altered in response to the change. The 50% discount represented the average by which indexation and averaging reduced the amount of tax payable on asset sales.[31] But human nature, driven by its strong desire for tax minimisation, responded accordingly to the change in law causing a significant change in property investment behaviour and a consequential decrease of billions of dollars in CGT revenue.[32]
Just as human nature caused wealthy property owners to brick up tenement windows to avoid the United Kingdom’s 1696 window tax (with scant regard for their tenants’ wellbeing),[33] the 1999 CGT simplification encouraged shorter ownership cycles, tax driven purchasing, property inflation and leakage from Government revenue.[34] Following the introduction of the 50% CGT discount in 1999, a high salary taxpayer could reduce their taxable income by investing in negatively geared rental properties claiming 100% deductions for their losses to offset their taxable salary income and then selling those properties for a capital gain only 50% of which was taxable thanks to the CGT discount. Thus, a compliance measure designed to reduce the burden of self-assessment, led to increased wealth for those sufficiently wealthy to benefit from negative gearing and rental property investment significantly increasing tax-induced inequity.[35] Simultaneously, the spike in property prices reduced the ability to purchase a principal residence for lower income renters.[36] The 50% CGT discount also discouraged long term asset holding, because landlords who held a rental property for decades were likely to pay more tax using the 50% discount than they would have if the original indexation system had continued after 1999. Short term asset holding, further disadvantaging renters who were more likely to be evicted by landlords wanting to offer vacant possession upon sale of their property.
The 50% CGT discount and its contribution to increased wealth inequity demonstrates the potential risk of legislative amendments designed to simplify tax compliance obligations.[37] However, there could be tax compliance amendments which would be less risky and more equitable for society.
Computer power has increased exponentially since 1987 when Australia’s tax self-assessment regime was first introduced.[38] Nowadays there are a plethora of programs and apps to manage complex property investment calculations for taxpayers.[39] There have been significant efforts in the past 2 decades to improve use of technology in the tax sector to reduce the compliance burden on taxpayers.[40] Most usefully, the ATO introduced an online portal which pre-fills data such as employment and dividend income for most personal taxpayers.[41] Prefilling simplifies compliance obligations using improvements in technology.[42] However, Australia remains a significant distance from returning the compliance burden predominantly to the ATO despite the Henry Report recommending, in 2009, that ‘Pre-filled personal income tax returns should be provided to most personal taxpayers as a default method of settling their tax affairs each year’.[43]
The compliance efficiency imperatives which motivated the move to self-assessment for the ATO in 1987 should have abated given the computing power available to assist the ATO. It would remain necessary for many taxpayers to retain oversight of their tax returns, particularly those engaging in activities the ATO cannot ascertain except through taxpayer disclosure, such as deductions claimed for maintaining rental properties.[44] However, the ATO, as the custodian of tax legislation and its interpretation, would be the ideal stakeholder to create software which guided taxpayers through the documentation and payment requirements accompanying capital asset acquisition, maintenance and disposal. Such software, having obtained the information from the taxpayer, would automate maintenance of records and calculations, on the taxpayer’s behalf, without substantial ATO staff cost post-development. The ATO could also expand its sources of current third-party autofill data beyond banks and employers to state governments and local councils. The current environment of increasing taxation complexity combined with increasing computer power, makes a compelling argument for the ATO to do considerably more to minimise taxpayers’ tax compliance obligations.
The ATO has done little so far to assist taxpayers with calculating capital gains and the complexity of CGT provided the justification for introducing the inequitable 50% CGT discount.[45] If the ATO began assisting taxpayers with the calculation of CGT, the Government could justify removing the 50% CGT discount perhaps by restoring the original CGT indexation and averaging system for individuals. Restoring the pre 1999 system would reduce gains from holding passive assets and remove the current preferential taxation of those buying and selling after holding for relatively short time periods. Unlike most tax reforms, the likely response of taxpayers is highly predictable (other than transitional behaviour) because the calculation reform would constitute a return to the 1999 system. However, unintended consequences must still be carefully considered. Tax is complex and tax law amendments encourage new ways to minimise the effect of those laws.[46]
To assist taxpayers with CGT compliance, the ATO would need to begin taking an interest in the acquisition of taxable assets rather than the current ATO focus solely on their disposal, being the point at which the CGT liability arises.[47] The unwinding of the 50% CGT discount may need to be accompanied by other tax incentives designed to encourage investment that meets Australia’s housing goals such as a CGT discount for investment in social housing. Unwinding the 50% CGT discount would not fully cure the housing problem it helped create but it might stem the price tide. The key basis for introducing the 50% CGT discount in 1999, complexity of calculation, no longer exists. Technology now enables taxpayers to delegate the record keeping and calculating process to computers for which the data storage and mathematics is trivial. It makes eminent sense for these computers to be owned and run by the ATO as increased ATO involvement in tax calculations would reduce both the heavy taxpayer compliance burden and the scope for deliberate and accidental taxpayer non-compliance.[48]
The complexity and cost to taxpayers of taxation compliance are key to the long-term desire of Government to simplify tax laws, making research into tax compliance a critical area for research and improvement.[49] Increased ATO focus on compliance would also decrease the need for most individual taxpayers to rely on expensive professional services to manage their tax affairs, further reducing tax-induced societal inequity. The combination of improved technological capability and the current unevenly distributed cost of living crisis make now an ideal time for the ATO to replace inequitable tax simplification measures, such as the 50% CGT discount, with further automation of compliance processes which simplify tax for taxpayers through the ATO reclaiming the tax compliance burden.
* Dr Sonya Willis is a Senior Lecturer at Macquarie University Law School who researches and teaches in civil procedure and taxation with a particular research interest in procedural fairness and equitable legal processes. Dr Willis is also a Solicitor of the Supreme Court of NSW and the High Court of Australia.
1‘Self-assessment’ most commonly means an assessment where the Commissioner accepts the statements of the taxpayer or assesses the taxpayer based on their returns and other information: Income Tax Assessment Act 1997 (Cth) s 995–1.01; Income Tax Assessment Act 1936 (Cth) s 166.
[2] Australia’s Future Tax System: Report to the Treasurer Part One Overview (Final Report, December 2009) 24, 31 (‘Henry Report Overview’); Richard Highfield and Neil Warren, 'How Tax Gap Can Inform Tax Policy and Administration: A Case Study of Australia's Individual Income Tax' (2023) 20(2) eJournal of Tax Research 203, 220, 234; Chris Evans and Binh Tran-Nam, ‘Australia’ in François Vaillancourt (ed), Prefilled Personal Tax Returns: A Comparative Analysis of Australia, Belgium, California, Quebec and Spain (Fraser Institute, 2011) 1, 4.
[3]Approximately 90% according to Highfield and Warren (n 2) 221.
[4] Alan Morris, ‘The Financialisation of Housing and the Housing Affordability Crisis in Sydney’ (2018) Housing Finance International (Summer) 63, 65.
[5] Australia Review of Business Taxation and John Theodore Ralph, A Tax System Redesigned: More Certain, Equitable and Durable (Australia Review of Business Taxation, 1999) (‘Ralph Report’).
[6] Morris (n 4) 63, 65.
[7] Ken Henry, Report on Aspects of Income Tax Self Assessment (Report, 2004) 2.
[8] Taxation Administration Act 1953 (Cth) (as at 26 June 2024).
[9] As at 26 June 2024, see Income Tax Assessment Act 1936 (Cth) and Income Tax Assessment Act 1997 (Cth).
[10] Other tax legislation includes the Medicare Levy Act 1986 (Cth), International Tax Agreements Act 1953 (Cth), Income Tax (Dividend Interest and Royalties Withholding Tax) Act 1974 (Cth), Superannuation Industry (Supervision) Act 1993 (Cth) and Superannuation Guarantee (Administration) Act 1992 (Cth).
[11] Each Australian State and Territory has its own state taxes such as the Duties Act 1997 (NSW), the Land Tax Management Act 1956 (NSW) and the Land Tax Act 1956 (NSW).
[12] Chris Evans, Phil Lignier, and Binh Tran-Nam, ‘Tax Compliance Costs For the Small and Medium Enterprise Business Sector: Recent Evidence from Australia’ (Discussion Paper No 003-13, Tax Administration Research Centre, 26 September 2013) 31. Additional tax legislation applying to businesses includes: A New Tax System (GST) Act 1999 (Cth), Fringe Benefits Tax Act 1986 (Cth) and Fringe Benefits Assessment Tax Act 1986 (Cth) as well as state-based tax legislation applying to businesses such as the Payroll Tax Act 2007 (NSW) and other state equivalents.
[13] Gary Banks, ‘The Good, The Bad and The Ugly: Economic Perspectives On Regulation in Australia’ (Speech, Conference of Economists, 2 October 2003).
[14] The Income Tax Assessment Act 1997 (Cth) was designed to simplify tax, as were the amendments following the Ralph Report (n 5).
[15] John Tretola, ‘The Simplified Tax System: Has it Simplified Tax at All and, if So, Should it be Extended?’ (2007) 17(1) Revenue Law Journal 104; Enrico Rubolino and Daniel Waldenström, ‘Tax Progressivity and Top Incomes Evidence From Tax Reforms’ (2020) 18(3) The Journal of Economic Inequality 261, 273–5.
[16] Ken Devos, ‘The Impact of Tax Professionals Upon the Compliance Behaviour of Australian Individual Taxpayers’ (2012) 22(1) Revenue Law Journal 1, 6–8, 19, 24.
[17] Treasury Laws Amendment (Tax Accountability and Fairness) Act 2024 (Cth); Treasury Laws Amendment (Tax Accountability and Fairness) Bill 2023 (Cth); Brent Fisse, ‘Accountability and the PwC Tax Leak Scandal’ (2023) 51(3) Australian Business Law Review 115.
[18] Ralph Report (n 5). For a definition of negative gearing, see Australia’s Future Tax System: Report to the Treasurer Part 2 – Detailed Analysis – Volume 2 (Final Report, December 2009) 741 (‘Henry Report Part 2 Volume 2’).
[19] Seth Nicholls, ‘Perpetuating the Problem: Neoliberalism, Commonwealth Public Policy and Housing Affordability in Australia’ (2014) 49(3) Australian Journal of Social Issues 329, 332.
[20] John Clark, ‘Capital Gains Tax: Historical Trends and Forecasting Frameworks (2014) 2 Economic Roundup 35.
[21] Kerrie Sadiq and Adrian Sawyer, ‘New Zealand's “Experience” with Capital Gains Taxation and Policy Choice Lessons from Australia' [2019] eJlTaxR 7; (2019) 16(2) eJournal of Tax Research 362, 382.
[22] Whilst Australia’s Future Tax System: Report to the Treasurer Part 2 - Detailed Analysis – Volume 1 (Final Report, December 2009) (‘Henry Report Part 2 Volume 1’) 82 suggested removing the remaining CGT indexation for simplification purposes, Henry acknowledges the importance of indexation to combat inflation and its policy related complexity in the context of income support in Henry Report Part 2 Volume 2 (n 18) at 518–20.
[23] Paul Kenny, ‘Australia's Capital Gains Tax Discount: More Certain, Equitable and Durable?’ (2005) 1(2) Journal of the Australasian Tax Teachers Association 38, 102, 107.
[24] John Freebairn, ‘Indexation and Australian Capital Gains Taxation’, in Herbert Grubel (ed), International Evidence on the Effects of Having No Capital Gains Taxes (The Fraser Institute, 2001) 123, 132; Sadiq and Sawyer (n 21) 382–6.
[25] Ralph Report (n 5); Kenny (n 23) 43–7.
[26] Kenny (n 23) 47. See also Peter Costello, ‘The New Business Tax System – A Reality’ (Press Release No 086, 10 December 1999) and Henry Report Part 2 Volume 1 (n 22) 83.
[27]John Minas, The Implications of Capital Gains Tax Rate Preferences (Oxford University Press, 1st ed, 2020) 8.
[28] Kenny (n 23) 54, 56; Henry Report Overview (n 2) 174.
[29] Australian Government, Re:think: Tax Discussion Paper (Discussion Paper, March 2015) 64.
[30] Henry Report Part 2 Volume 2 (n 18) 418–20. This generous tax treatment of passive income losses contrasts with Div 35 Income Tax Assessment Act (1997) (Cth) which quarantines business losses for individuals where the business is not of a commercial size but expressly excludes passive income from the loss quarantining at ss 35–5(2).
[31] Ralph Report (n 5).
[32] John Minas and Brett Freudenberg, ‘Australia's 50% CGT Discount: Policy Oversight?’ (2020) 35(1) Australian Tax Forum 88, 100 (‘CGT Policy Oversight’); Brett Freudenberg and John Minas, ‘Reforming Australia's 50 Per Cent Capital Gains Tax Discount Incrementally’ [2019] eJlTaxR 5; (2019) 16(2) eJournal of Tax Research 317, 319 (‘CGT Reform’); Michael Keen and Joel Slemrod, Rebellion, Rascals, and Revenue: Tax Follies and Wisdom Through the Ages (Princeton University Press, 2021) ch 9.
[33] Keen and Slemrod (n 32) 222–4. See also ‘Window Tax’, UK Parliament (Web Page) <https://www.parliament.uk/about/living-heritage/transformingsociety/towncountry/towns/tyne-and-wear-case-study/about-the-group/housing/window-tax/>.
[34] Kenny (n 23) 54, 57; Minas and Freudenberg, ‘CGT Policy Oversight’ (n 32) 100, 103, 106; Henry Report Part 2 Volume 2 (n 18) 418–20.
[35] James Minas, John Minas, and Youngdeok Lim, ‘A Cluster Analysis of Individual Taxpayers– What Are the Characteristics of Taxpayers Who Realise Capital Gains?’ (2023) 38(2) Australian Tax Forum 245, 265 (‘A Cluster Analysis of Individual Taxpayers’) provides excellent insight into how the CGT discount has increased inequity. See also Kenny (n 23) 54–7.
[36] Kenny (n 23) 56–8.
[37] Chris Evans, ‘Taxing Capital Gains: One Step Forwards or Two Steps Back?’ [2002] JlATax 4; (2002) 5(1) Journal of Australian Taxation 114, 127; Minas et al, ‘A Cluster Analysis of Individual Taxpayers’ (n 35), 264–5.
[38] Christian Jutten and Athina Petropulu, ‘Celebrating Technological Breakthroughs and Navigating the Future With Care [From the Editor]’ (2023) 40(4) IEEE Signal Processing Magazine 8.
[39] Dulani Halvitigala and James Gordon, ‘The Use of Property Management Software in Residential Property Management’ (Conference Paper, 20th Annual Pacific Rim Real Estate Society Conference, 2014). See also Property Management Software (Web Page) <https://www.softwareadvice.com.au/directory/1662/management-apps/software>.
[40] Paul Tilley, Australia’s Future Tax System (Working Paper No 17, Tax and Transfer Policy Institute, 2021) 12.
[41] Highfield and Warren (n 2) 220; Evans and Tran-Nam (n 2).
[42] Evans and Tran-Nam (n 2) 3.
[43] Henry Report Part 2 Volume 2 (n 18) 706 (see Recommendation 123).
[44] Evans and Tran-Nam (n 2) 8–9.
[45] Evans and Tran-Nam (n 2) 9–11.
[46] Keen and Slemrod (n 32) 214.
[47] Income Tax Assessment Act (1997) (Cth), vol 3 ch 3, ss 100–5 to ss 100–70.
[48] Highfield and Warren (n 2) 222.
[49] Jeff Pope, ‘The Compliance Costs of Taxation in Australia and Tax Simplification: The Issues’ (1993) 18(1) Australian Journal of Management 69, 85–6; Paul Tilley, ‘Tax Reform: Lessons from History’ (2023) 52(1) Australian Tax Review 6, 7; Toni Chardon, Brett Freudenberg, and Mark Brimble, ‘Tax Literacy in Australia: Not Knowing Your Deduction From Your Offset’ (2016) 31(2) Australian Tax Forum 321, 358–62.
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